How the Economic Quacks Promoting Austerity Will Increase the Deficit

Congress will not avert the dreaded sequester – the government’s latest wheeze to deal with the phony “deficit crisis.” Never mind that the very same deficit is projected to fall under $1 trillion this year for the first time since 2008, according to the CBO. Politicians and the chattering classes rail about the deficit, while in the meantime, Americans can’t find jobs. Our neighbors, friends and fellow citizens have suffered from a persistently high unemployment rate of 8 percent through 2012, and worse, an underemployment situation of around 15 percent. Why doesn’t this very real crisis generate concern? Why all of the fuss about a nonexistent emergency?

Conservatives talk indignantly about government profligacy to justify their deficit obsession. But our large deficits (which peaked some three years ago) can almost always be expected to result from recessions because of what economists call “automatic stabilizers.” These are safeguards that have been in place since the Great Depression – things like unemployment insurance, welfare, food stamps and the like. These programs were introduced precisely to avoid the kind of human misery a great many of our citizens experienced during that earlier catastrophe. These income transfers are also the reasons -- not the bailouts to our banks -- why the economy has escaped the kind of freefall experienced in the early 1930s.

A major consequence of this policy choice, which is supported by the vast majority of Americans, is that budget deficits in the US are largely automatic and non-discretionary. So recessions create budget deficits, much as private sector booms reduce deficits.

True, we are not booming by any stretch today. But even against this sluggish backdrop, over the last three years, the deficit has experienced a 30 percent drop as a percentage of GDP. That suggests the patient is slowly recovering, but not fast enough. The current rate of job creation is not only insufficient to replace the jobs lost since the crisis, but can’t even keep up with labor force growth. At the recent pace of job creation, we only fall further behind. Withdrawing the medicine prematurely risks creating a relapse in the economy.

And there is much more to do. We need to use this period of historically low interest rates to borrow so as to improve our productive capacity as an economy going forward. As anybody who wanders around major American cities can see, the country has fallen into disrepair. Just ride in any New York City taxi cab and see how well your back survives the journey. But before we can rebuild our pothole-ridden roads, repair our decaying grids, or deal with energy or climate change, we must challenge and reject all of the nonsense about long-term budget deficits, national bankruptcy or insolvency, and even “fiscal responsibility” that we are hearing from Congress and the chattering classes. 

The real fiscal responsibility lies in understanding how we invest in the future with jobs, education and decent roads and bridges. Letting our country fall apart, on the other hand, is the height of irresponsibility.

If the US continues to make headway on the jobs front, it will do even better on the deficit front, which is why any sensible economist will tell you that deficit reduction per se should never be an object of government policy. In a market economy, employment is the main source of income for most of the population. Economic growth creates jobs. Without paying jobs, individuals are unable to pay taxes.  In capitalist, wage-labor societies, therefore, joblessness creates a long list of other kinds of waste that Congress never talks about—the breakup of families, rising alcoholism and drug addiction, higher crime rates, absolute and relative poverty, damage to social status and self-respect, adverse psychological and physical health effects, stress, suicide, crime and other anti-social behavior.

During WWII, the government’s deficit -- which one year reached 25 percent of GDP -- raised government’s public debt ratio above 120 percent, much higher than the ratio expected to be achieved by 2015. Further, in spite of the siren songs warning of the evils of high national public debt, US growth in the postwar period was robust—it was the golden age of US economic growth. And guess what? The debt ratio came down rather rapidly, mostly not due to budget surpluses and debt retirement, but rather due to rapid growth that raised the denominator of the debt ratio.

There isn’t, in fact, a “long-term deficit problem.” So long as interest rates stay below the growth rate, as they are, debt-to-GDP levels eventually stabilize and even decline. But if we start reintroducing cutbacks just as the US economy is beginning to show faltering signs of recovery, all of the recent gains on the budget deficit will go by the wayside. Why? Because fiscal austerity deflates economic activity, causing tax revenues to plunge and social welfare payments – unemployment insurance, welfare, food stamps – to explode.  The perverse impact, then, is that deficits get larger – precisely the opposite of what the “austerian” brigade desires, but which is happening in earnest in places like Greece and Spain.

At the end of the day, deficits are a symptom of a problem, rather than the problem itself. That is, when the economy slides into a recession, tax revenues start falling as economic activity declines. Social transfer payments, particularly unemployment benefits, on the other hand, increase, again automatically, as more people lose their jobs.Calling the deficit a “national security problem” is akin to blaming the thermometer when it records the temperature of a patient suffering from the flu. Similarly, cutting government investment at a time of still high unemployment is as futile as breaking the thermometer, rather than treating the underlying illness. Your doctor would be rightly sued for medical malpractice if that was what he recommended. Shouldn’t we have a similar penalty in place for economic quacks who advocate policies designed to augment human misery?

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